Problem Solving

1
• Structured Problem Solving – using the 7 step methodology
• Conducting Analysis
Agenda for today‟s session

•Understanding and articulating the
client problem that the project will
solve.
•Thinking creatively about innovative,
value-adding way to solve the client
problem
•Decomposing the problem into key
issues to analyze and hypotheses to
test
Taking complex problems, analysing them
and communicating findings so that
clients want to take action
Essence of a good consultant How????
Problem solving is the essence of consulting……

3
The 7-step problem solving methodology is a structured approach
to problem solving and makes use of logical tools at each step….
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
xxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxxxx
xxxxxxxx
Think impact: what
do I need to know
and how do I frame
the problem?
Think disaggregation and
early hypothesis: what
could be the key elements
of the problem and do
they create early insight
into the answer?
Think IMPACT and
EFFICIENCY: which
parts of the tree are
most important for
me to focus on?
Think effectiveness:
How can the
resources be utilized
optimally?
Think answers not
analysis: what is the
simplest fact-based
approach that will prove/
disprove each issue?
Think “So what”: how do
I use the findings to tell a
compelling story?
Think buy-in and
actionable solution
: Is it clear what the
client needs to do
and how to do it?
Think next iteration:
what are user/team‟s
next priorities?
Communication

4
Step 1: Problem Definition
SOURCE: McKinsey
2
structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
analyses
6
Synthesis findings
7
Develop
recomme-
ndations
Client
problem
1
Define problem
Think impact: what
do I need to know?

5
Problem definition worksheet is a tool that consultants use
during the problem definition stage
Basic question to be resolved
Perspective and context Stakeholders
Criteria for success Scope of solution space
Defines success for the project. Must be
shared by client and the engagement
team. Should include relevant
quantitative and qualitative measures
e.g. visible improvements, effect on staff
mindset, market share growth, etc
Identifies primary decision makers (e.g.,
CEO, Division Manager) as well as internal
and external parties can support( or derail)
the project (e.g., shareholders, regulatory
authorities, SBU managers).
Indicates what will and will not covered
by the engagement team. Including
accuracy and quality expectation.
Defines what must be resolved to deliver impact for the client. The question should
be SMART. The more specific the statement the better, provided it is not so narrow
that the “wrong” problem is addressed
Spells out the situation and complication
facing the client e.g., trends in the
industry, relative position in the industry
etc
Think
SMART
Defines the limits of the set of solutions
that can be considered – e.g. team can
only consider organic growth and not
inorganic
Constraints within solution space Key sources of insight
Research on where expertise,
knowledge, engagement methodology
exist both internally (within the firm) and
externally (client, specialist firms etc)
e.g. Practice databases,

6
• Specific
• Measurable
• Action-oriented
• Relevant (to the key problem)
• Time-bound
“SMART” stands for…..

PROBLEM STATEMENT WORKSHEET – EXAMPLE
Perspective/context Decision makers/stakeholders
1 3
Criteria for success Scope of solution space
2 4
5
Constraints within solution space
Basic question to be resolved
How can ABC Bank close the N1 billion profitability gap in 2 years and create a sustainable economic
platform for the future?
• Consolidation
• Deregulation leading to many new non-traditional
players e.g. microfinance banks
• Banking crisis
• Emergence of internet and electronic-banking
• CEO of ABC Bank
• ABC Board of Directors
• Shareholders
• CBN
Close the N1billion gap within 2 years • Focus on retail banking only
• Focus on Nigeria only
Keep operating the bank as an independent
company
Key sources of insights
Pass studies on banking, CBN website, Financial
and banking databases and journals etc
6

8
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
Think disaggregation and
early hypothesis: what
could be the key elements
of the problem and do
they create early insight
into the answer?
Communication
Step 2: Problem Structuring

Key advantages
• Facilitates problem-solving
– Parts of problem easier to
handle
– Ensures completeness
– Focus topics more easily
recognisable
• Facilitates planning
– Working in parallel possible
– Difficulties easier to detect
– Scheduling more transparent
– Goal-oriented approach
• Facilitates communication
– Concentration on key topics
– Context clearer
Principle of structured problem solving
SOURCE: McKinsey

Logic trees are tools that help to systematically structure a problem
Mutually
Exclusive
Collectively
Exhaustive
First line
of support
Second line
of support
Problem
Statement
Worksheet
Basic
question to
be resolved
Relevant
ConsistentConsistent

Logic trees are the link between the problem statement worksheet
and a list of manageable questions
Sub-issue
Sub-issue
Sub-issue
Sub-issue
Sub-issue
Sub-issue
Issue/
hypothesis 1
Issue/
hypothesis 2
Issue/
hypothesis 3
Problem
statement
Why use logic trees?
1.
2.
3.
4.
To break a problem into component
parts so that
• Problem-solving work can be
divided into intellectually
manageable pieces
• Priorities can be allocated to
individuals
To maintain the integrity of the
problem-solving approach
• Solving the parts will really solve
the problem
• The parts are mutually exclusive
and collectively exhaustive
(i.e., no overlaps, no gaps)
To build a common understanding
within the team of the problem-
solving framework
To help focus the use of organizing
frameworks and theories

Problem/Issue
Problem/Issue
Hypothesis-Driven – How?
Starts with a potential
solution and develop a
rationale to validate or
disprove it
Data-Driven – “Why?”
Starts with the problem and
decompose it to arrive at a
solution.
Difference between issue tree and hypothesis tree

M
E
C
E
utually
xclusive
ollectively
xhaustive
Mutually exclusive:
Statements do not overlap
in content
Collectively exhaustive:
Statements jointly fully describe the
problem and/or the statement at the
next highest level
“MECE” means – a problem that has no overlaps and presented
in its entirety
SOURCE: McKinsey

FRAMING THE PROBLEM – ISSUE TREE EXAMPLE
How can
Acme
increase
profits from
existing
business
lines?
From
Widgets
From
Thrum-mats
From
Grommets
Increase
Revenues
Decrease
Expenses
Decrease
raw
material
costs
Decrease
labor
costs
Decrease
overhead
costs
Negotiate wage concessions
Implement a labor-saving
production process
Which
Product
Lines?
How? How? How?
Negotiate higher productivity
quotas

15
Why has the
machine stopped?
• The overload
fuse has blown
Why did the over-
load fuse blow?
Why wasn‟t there
enough oil?
• The oil pump
doesn‟t pump
enough oil
• Because the oil
strainer is
blocked with
metal swarf
Why has the shaft
worn?
• Because the
shaft has worn
Why doesn‟t the
oil pump work
properly?
Ask „Why?‟ until
you get to the bottom
of the problem
1
2
3
4
5
Most times, we need to deep dive to get to the root cases of problem.
5-why‟s is a useful tool that underpins the issue tree framework in the
investigation of root causes….
ILLUSTRATIVE
• There was not
enough oil on
the shaft

16
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
Think IMPACT and
EFFICIENCY: which
parts of the tree are
most important for
me to focus on?
Communication
Step 3: Prioritisation of issues

• First step in constant, iterative
refinement process
– Porpoise between
hypotheses/theories and data
– Use 80/20 thinking
• „High grades‟ your effort on what is
most important
• Always ask „so what‟ … but also
ask what you‟ve forgotten
• Eliminating nonessential issues is
the key to having a reasonable
lifestyle on a difficult study
Eliminate nonessential issues
Problem
statement
Issue 1
Issue 2
Issue 3
Eliminated issues

18
Use judgement/intuition
Do back-of-the-
envelope calculations
Involve the team
Take risks
Focusing on
impact
Polishing
Be practical!
Use the 80/20 philosophy
20
80
80
20
Time and
effort
Benefit for
problem
solving

Efforts to structure the
problem
Requirements for analysing problems
• Focus on the main starting points of
the problem
• No gaps, no overlaps (MECE)
• Logical hierarchy of levels
• Logical elements are consistent on
individual levels
Time and effort invested
in analysing the problem
Benefits for
problem-solving
20% 100%
No cost
efficienc
y
80%
100%
Attempt to
be MECE
Attempt to be perfect
Benefits of the 80/20 rule for problem solving

20
Low High
Impact
LowHigh
Easeofimplementation
Developed solutions can be prioritised along 2 dimensions through
the prioritisation matrix

21
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
xxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxx
xxxxxxxx
xxxxxxxx
Think effectiveness:
How can the
resources be utilized
optimally?
Communication
Step 4: Plan analyses and work

Early Do not wait for data, critical mass, or anything else
Often Revise, update, and improve as you porpoise
through the data
Specific Be very specific on analysis and source
Syndicated Test with team members, try alternative hypotheses
Realistic Make it manageable and realistic otherwise it will not
be used
Best practice work planning

Issue End product
Description
Should ABC
Bank invest
N200 M in
acquiring
Virgin
Bank?
• An issue is typically
an important
unresolved question,
phrased so that it
can be answered
“yes” or “no”
• The end
products is a
statement of
the output from
the analysis
• Yes, Virgin Bank is
the best option for
ABC Bank to
establish skills and
assets quickly
compared with both
organic growth and
other acquisition
options.
Hypothesis
• The hypothesis is a
statement of the
likely resolution of
the issue; it
includes the reason
for answering yes
or no
Analysis
• The analysis defines
the work necessary
and sufficient to
prove or disprove the
hypothesis or resolve
the issue
• Assessment of
organic options for
growth – time, risk
etc
• Comparison of other
local banks in the
market as well as
acquisition options
• Cash flow, NPV
• April 3, Tunde
Responsibility/
timing
• Financial
forecast and
value of
investment
• Responsibility
identifies the
person who will
obtain the data
and undertake
the analysis.
Also the
completion due
date
Source
• The source
identifies the
likely location or
means of
obtaining data to
undertake
analysis
• Analyst reports
on Nigerian
banking industry
• In-house
financial and
banking
specialists
• M&A valuation
methodology
Yes or no? How or why?
Developing the analysis sheet

DESIGNING THE ANALYSIS – WORKPLAN EXAMPLE
Issue/Hypothesis
Can we implement
the new production
process? Yes
Does the process
require new
facilities? No
If it does require
new facilities, can
we acquire them
economically?
Yes
Analyses
Technical
specifications
List of facilities that
meet new criteria
Map of “facilities
gap”
Sources of required
facilities/equipment
Cost to fill gaps
Effect on project
rate of return
Data Sources
Articles, interviews
Facilities management,
interviews
Facilities management,
thrum-mat line
supervisors, interviews
Operations, trade
publications
Operations, contractors,
interviews
Finance department,
prior analysis
End Product
Chart
List
Chart
List
Table
Spreadsheet
Responsibility
Tom
Tom
Belinda
Belinda
Belinda
Terry
Due dates
3-Jun
5-Jun
7-Jun
7-Jun
10-Jun
12-Jun

The final
workplan should
correspond to
the project
timing and
scope agreed to
Analysis (main study steps)
1. Complete overview of the
market and industry
• Gather market and industry
data
• Conduct trade interviews
• Analyse data and formulate
initial view of industry
Assessment of
attractiveness of the
foreign market and
industry
2. Carry out an assessment of
ABG‟s competitive position
• Complete analysis of trends
in market share, pricing and
distribution
• Complete comparative cost
analysis
• Interview sample of buyers
• Interview McKinsey contacts
in the retail industry
Critical review of ABG‟s
strengths
and weaknesses
compared to
competitors
3. Estimate potential for ABG‟s
future performance
• Define alternative scenarios
• Establish most likely case
scenario
• Conduct sensitivity analysis
• Assess maximum
improvement potential
Financial evaluation
of ABG‟s milling and
baking interests
Progress reviews with XYZ management
Key end products 1 2 3 4 5 6 7 8 9 10 11 12
Timetable (weeks)
4 – Workplan

26
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
Think answers not
analysis: what is the
simplest fact-based
approach that will prove/
disprove each issue?
Communication
Step 5: Conduct analysis
Details on analyses will be
discussed later

27
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
Think “So what”: do the
findings tell a compelling
story?
Communication
Step 6: Synthesis findings

Use situation, complication,
resolution
State the conditions
at point of problem
Flesh out difficulties
in making situation
better
Lay out possible
solution path
6 – Synthesise findings and build argument……
Situation
Complication
Resolution
and/o
r
Pyramid structure
Main assertion
Sub-assertion Sub-assertion
Supporting
data
Supporting
data
Supporting
data
Supporting
data

29
….. Using the Pyramids Principle – built from the bottom,
communicated from the top
Coherence1
Chapters
Subchapters
Bullet points
Decisive
questions:
"What?"
"Why?"
"How?"
Governing
thought
Decisive
question:
"So what?"
Particular insights,
reasons, steps,
benefits, etc.
Analysis
results
Facts,
assump-
tions,
etc.
1 Same level of abstraction at each level

30
SAMPLE: Synthesis (Note difference between summary and synthesis)
It has many places
to go in the evening
It has many places
to go during the day
?
Decisive
question:
„So what?‟
Synthesis
of the facts
Lagos is a great
place to have fun
+
▪ There are many
restaurants
▪ There are many
theatres
▪ There are many
clubs
▪ There are many
shops
▪ There is a National
museum
▪ There are many
beauty spots
Summary
of the facts
Facts about
Lagos

31
Please sort these
statements and create a
logical pyramid with 3 levels.
Formulate suitable overarching
conclusions („so what's‟) that
synthesise the details, and come
up with a governing thought that
synthesises all your
conclusions
He is results-oriented
Able to work well in a team
Sufficient knowledge of subject area
His leadership skills are excellent
Conflict management
Familiarity with the organisation
He has the ability to delegate
Understanding of market requirements
Good time management
Can handle disagreements
Coaching
1
2
3
4
5
6
7
9
10
8
Synthesis exercise – what are the characteristics of a great
project manager?
11

32
Solution to synthesis exercise
Good project
managers possess
management,
professional and
interpersonal
capabilities
One governing
thought at the top
(key message)
Overall
conclusions
in complete
sentence
They possess a set
of broad
management skills
Results-
oriented
1
Leader-
ship
skills
4
Ability to
delegate
7
Good
time
manage-
ment
9
Their professional
qualifications are
outstanding
(specialised
expertise)
Suffi-
cient
know-
ledge of
subject
area
3
Famili-
arity with
the
organi-
sation
6
Under-
standing
of market
require-
ments
8
They have polished
interpersonal skills
Able to
work well
in a team
2
Conflict
manage-
ment
5
Coach-
ing
11

33
1
Define problem
2
Structure
problem
3
Prioritize
issues 4
Plan
analyses
and
work
5
Conduct
Analyses
and work
6
Synthesise
findings
7
Develop
recomm
endations
Client
problem
Think buy-in and
actionable solution
: Is it clear what the
client needs to do
and how to do it?
Communication
Step 7: Develop recommendations
High impact communication which
is designed to take care of
“Developing Recommendations” will
be handled as a separate module

34
• Conducting Analyses (Internal and external)
• Power of Excel
• Market analysis
• Financial Analysis and Accounting

Excel is a powerful tool for conducting analyses…….
Knowing what you want
to do
Finding out how to do it
Implement what you
want to do
• What do I want to
accomplish with my
analysis?
• What type of calculations
do I need to include in my
analysis?
• How do I need to modify
the data so that I can use
it?
• Excel probably has some
functionality that helps you
do what you need to
• Use formulas and
functions that you are
familiar with
• Seek information on how
to do things:
– Use Excel‟s formula
builder
– Use Excel‟s help
function (F1 key)
– Use the internet to
search for help
– Ask a friend for tips
• Allow yourself to try and
fail! It does not have to be
right the first time
• If you are having trouble,
seek help
• Make sure analysis is
done correctly

Pivot tables are one of Excel‟s most useful features
A PivotTable is an important feature of MS Excel. It is an interactive table that quickly
summarizes large amounts of data, based on multiple conditions that have intersecting
points
You can use PivotTables to:
• Calculate different summaries (e.g. list the total number of customers per division)
• Analyze related totals (e.g., calculate the total spent per account)
• Sum a long list of figures and compare details (e.g., number of suppliers with sales
largers larger than NGN 1 million)
Creating pivot tables
• To create a pivot table, highlight the data you want to include, and click on the pivot table
icon on the Insert menu
Pivot tables can also be created
with the following keybaoard
shortcuts
• Alt + D + P
• Alt + N + V + T
• Try it, it WILL make you faster!

….. Also the use of basic formulas
Basic formulas in Excel have these two main syntax forms:
A1 + B2= SUM ( A1 : B2 )=
Equal sign Cell
references
Operator Equal sign Formula
name
Parenthesis Cell
references or
range
Examples of basic formlulas include:
• AVERAGE – returns the average of a cell range
• SUM – returns the sum of a range of cells
• MEDIAN – returns the median number in a cell range
• MAX – returns the highest number in a cell range
• MIN – returns the lowest number in a cell range
• And many more – use Excel‟s help function to learn more about them

More advanced formulas often have more elements
IF ( A1 > 1 ; “Yes” ; B2 )=
Equal sign Formula
name
Parenthesis Formula
input
(for IF:
logical test)
Formula
input
(for IF:
value if true)
Formula
input
(for IF:
value if false)
Separator for
formula
arguments (, in
some Excel
versions)
Excel 2007 helps you understand the syntax of your formulas as you
write them!

Other examples of advanced formulas
Function/
Functionality
What does it do? How do we use it? Additional Comments
COUNTIF
Counts the number of cells
within a range that meet the
given criteria
COUNTIF(cell range you are looking in,criteria -
value; cell reference - you are looking for)
To count entries using mathematical
operators, use "<32" in the <criteria>
parameter field, to count the number of
values in the range <32
Wildcard Usage: COUNTIF(C2:C40,"*te")
will tell you how many words end with "te"
SUMIF
Adds the cells within a range
specified by a given criteria
SUMIF(cell range you are looking in,criteria -
value; cell reference - you are looking
for,Sum_range; the actual cells to add if their
corresponding cells in range match criteria)
To sum entries using mathematical
operators, criteria can be expressed as 32,
"32", ">32", or "apples"
VLOOKUP
Searches for a value in the first
column of a table array and
returns a value in the same
row from another column in the
table array
VLOOKUP(cell reference of the value to be
looked up,table array range where the first
column contains the value being looked
up,position of the column data needs to be
retrieved from,type of match)
Type of Match:
0, False : Gives an exact match
1, True : Gives an approximate or exact
match (be sure to sort your data in
ascenfding order before trying this)
HLOOKUP
Searches for a value in the first
row of a table array and returns
a value in the same column
from another row in the table
array
VLOOKUP(cell reference of the value to be
looked up,table array range where the first row
contains the value being looked up,position of
the row data needs to be retrieved from,type of
match)
Type of Match:
0, False : Gives an exact match
1, True : Gives an approximate or exact
match (be sure to sort your data in
ascenfding order before trying this)

Market analysis: Helps you understand how a market works, which
impacts the behavior and performance of market participants
S C P
Structure Conduct Performance
The structure of the
market . . .
. . . drives the way
companies behave and
compete with each other in
response to events
Their strategy determines
their economic
performance
Feedback
By understanding the structure of the
market, we can understand why companies
behave the way they do and why some firms
are successful, while others fail

Porter‟s Five Forces model provides a simple framework through
which we can understand the structure and interaction in the market
Barriers to entry
Can new companies easily
enter the market and
increase competition?
Substitute products
Can consumers push down
prices by buying other
products to do the same job?
Bargaining power of input
suppliers
Can those who supply raw
materials force producers to
pay more?
Bargaining power of
consumers
Can consumers exert power
to force lower prices?
Competition between
producers
Economics of
demand
Economics of
supply

Finance and Accounting: The basic principle of finance is called
the time value of money
Fundamental valuation is about applying the concept of time
value of money to expected cash flows in the future
“Money you have today is worth
more than money tomorrow”
Time value of
money
Why is this the case?

Information about a company‟s financial position is found in the
financial statements – the balance sheet, income and cashflow
statements
• Shows whether the company‟s operation has resulted in a
profit or loss as of a defined time period
• Can be thought of like a motion picture since it reports how
a company has performed during the period(s) presented
• Portrays the financial position of the company by showing
what the company owns and what it owes at a reporting date
• Can be thought of as a snapshot since it reports the
company‟s financial position at a specific point in time.
▪ Reports on company‟s cash generation during the period(s)
separating it by operating, investing and financing activities
Balance sheet
Income statement
Cash Flow Statement

Balance sheet item definitions
Accounts
receivable
Money owned from
customers
Notes receivable Money owned from loans
made (financial)
Inventory Assets that are held for sale
(or in the process of being
produced for sale)
Prepaid
expenses
Expenses that are paid in
advance (e.g., rent)
Property, plant
and equipment
Land, building, and
equipment owned by the
company; shown before and
after depreciation
Deferred
charges
Asset used to reduce future
income (usually tax)
Goodwill Intangible asset created upon
an acquisition
Assets
Accounts payable Money owed to vendors for
products purchased
Accrued liabilities Expenses incurred but not
yet paid (e.g. salaries)
Capital lease
obligations
Payments on a lease
treated as a loan
Deferred credits Income received but not yet
reported as income
Reserves for
employee benefits
plans
Money owed to employees
(usually pensions and
health benefits)
Minority interested Third party ownership in
company subsidiary
Stockholders‟
equity
Interest in assets after all
liabilities are paid
Liabilities and shareholders’ equity
NOT EXHAUSTIVE

Income statement item definitions NOT EXHAUSTIVE
Sales and other
operating
revenues
Money received for goods and
services provided
Income from
equity affiliates
Share of earnings in affiliated
companies
Operating
expenses
All operating costs (e.g. costs
required for lifting oil and gas
to the surface)
Selling, general
and
administrative
expenses
Selling cost and non-
production overhead costs
such as sales and marketing,
and R&D
Exploration
expenses
Costs incurred in the
exploration for oil and gas
Depreciation,
depletion and
amortization
Non-cash charge for the use of
a fixed asset (depreciation),
mineral resource (depletion) or
intangible (amortization)
Operating items
Other income May include operating and
non-operating income (best to
check financials)
Taxes Taxes paid or provisions made
for taxes to be paid
Interest and debt
expense
Interest paid on debt
Minority interest Portion of earnings of
subsidiary allocated to minority
investor
Non-operating items

Statement of cash flows
Operating
cash flow
• Cash flow originating from the firm’s operating activities;
sales of goods and services, purchase of supplies, SG&A,
taxes
Investing cash
flow
• Cash flow originating from the firm’s investing activities;
sale of fixed assets, sale of long-term financial assets,
collection of interest acquisitions, long-term financial
investments
Financing
cash flow
• Cash flow originating from the firm’s financing activities;
insurance of stocks and bonds, long-term borrowings, short-
term borrowings, repurchase of stocks and bonds,
repayment of long-term debt, repurchase of short-term debt,
interest payment, dividend payment

50
The financial statements are linked NOT EXHAUSTIVE
Cash from operations
Cash from investing
Cash from financing
Net change in cash
Cash flow statement
Investment and divestment by
owners
Net income and other
earnings
Net change in owner equity
Statement of
shareholder’s equity
Revenue
Expenses
Net income
Income statement
Cash
+ Other assets
Total assets
- Liabilities
Shareholder’s equity
Ending balance
sheet
Cash
+ Other assets
Total assets
- Liabilities
Shareholder’s equity
Beginning
balance sheet

Basic accounting equation…..
Assets Liabilities Equity= +
•This equality must always be true
•For example, any increase in an asset must be
offset by a decrease in an asset or an increase
in a liability or equity
What a company
/ business owns
What a company
/ business owes= +
What’s leftover
for the owners of
the business

52
The financial statements can be used to calculate margins that
measure cost efficiency of business activities
(1) Costs that can be directly attributed to the goods & services produced (i.e., cost of goods sold)
(2) Earnings before interest and taxes
Metric
Gross Margin
Ability of a company to control
“direct”(1) costs
Gross Profit
Sales
Formulae Measures
EBIT(2) Margin
Overall operating efficiency;
accounts for all operating expenses
EBIT
Sales
Net Profit Margin
Proportion of sales available for
distribution to shareholders
Net Profit
Sales

The fundamental value of your company is set by growth, ROIC, and
cost of capital
Growth
Value The money I make
The money I invested to make money
How much additional capital I am able
to invest
Cost of
Capital
How much my capital costs me
Return on
Invested
Capital

Return on invested capital is the fundamental driver of a company‟s
value; to have value ROIC must be higher than your cost of capital
The money I make
The money I invested to make money
ROIC =
After tax earnings from operations*
The amount of operating capital
invested in the company (I.C.)
ROIC =
*Often called “Noplat” or “Nopat” (Net Operating Profit Less Adjusted Taxes)
The opportunity cost of employing
capital to your business (for
example interest cost)
Cost of capital =

Understanding what impacts the ROIC
Return on
invested
capital
SG&A / Revenues
Cost of Goods Sold
/ Revenues
Depreciation /
Revenues
Property, plant and
equipment /
Revenues
Operating working
capital / Revenues
Other operating
assets, net /
Revenues
Pre-tax return
on invested
capital
Cash tax rate
Capital Turnover =
Revenues /
Invested Capital
Times
1/
Operating margin =
EBITA/revenues
OR EBITA
1–
1–
X
X
+
+
+
+

56
How to create value
Economic
Profit
Invested
Capital
ROIC
WACC
x
–
Growth
Sales
margin
Capital
turnover
xValue
Reduce
WACC via capital
structure
Improve return
on capital
• Increase margin
• Increase capital
turnover
Invest in
businesses with
returns above cost
of capital
Increase
growth if returns are
higher than cost
of capital

Problem Solving

Recommended

More Related Content

What's hot (20)

Similar to Problem Solving (20)

Recently uploaded (20)

Problem Solving